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Expect the unexpected from small cap companies with debt
Posted by: Gerry Wimmer

Global Railway Industries is a good reminder of what could happen.

I confess, I own shares in Global Railway Industries Ltd., (TSXV: GBI). This once small cap performer and railway industry supplier is now in wind-up mode and so is the Company's stock price at $0.53.

I invested in Global Railway's stock in 2006 with sound financial judgement and I was at first rewarded. The value of my investment in Global Railway jumped three-fold, as the Company consistently reported strong earnings quarter after quarter. Global Railway's stellar performance attracted the attention of many analysts and institutional investors which contributed to the rich earning multiples the Company's stock would trade at.

Regrettably what I failed to fully appreciate was the value of the strength of Global Railway's balance sheet. At the time, Global Railway was totally debt-free and held cash.

In summer of 2007, shares of Global Railway traded at a 52-week high of $5.50. Six months later the make up of the Company's balance sheet had changed. Global Railway made a large acquisition. In doing so, the Company depleted its cash holdings and added a sizable amount of bank debt.

Notwithstanding that investors would debate Global Railway management's wisdom for making the acquisition, on paper the Company could afford it, by servicing the debt if operations continued on as expected.

In 2008, the unexpected happened: a rapid financial meltdown and the severe economic downturn. The Company's customers - the railroads - cut spending significantly. Global Railway's overall business dropped 40%. Suddenly the Company management's time was consumed with bankers over debt covenant breaches and repayment terms and less time attending to operations. As a result, Global Railway's stock price plunged and the Company was forced to divest its strong assets and begin the wind-up of its operations.

The reality is, despite the downturn in business in late 2008, a debt-free Global Railway could have weathered the unexpected economic storm and so too could have the Company's stock price as well by returning back to higher trading levels.

Global Railway is my reminder that all small cap companies are very vulnerable to the unexpected. But survival from the unexpected is a better bet from investments in small cap companies that remain debt-free.

Author's Ownership Position: TSXV: GBI Long (unfortunately)

Read Disclaimer:

This article is for informational purposes only. This article is based on the author's independent analysis and judgment and does not guarantee the information's accuracy or completeness. The information contained in this article is subject to change without notice, and the author assumes no responsibility to update the information contained in this article. The information contained within this article should not be construed as offering of investment advice. Those seeking direct investment advice, should consult a qualified, registered, investment professional. This is not a direct or implied solicitation to buy or sell securities. Readers are advised to conduct their own due diligence prior to considering buying or selling any stock.



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Hi Gerry, Your philosophy is focused on principles that have been shown to produce above average results over time and your record has clearly proven that. Congratulations on a great blog and thank you for the hard work that you do in sharing and updating your ideas; it is much appreciated.